Monetizing Binary Options

Binary options represent a style of trading that allows investors many benefits beyond what are available when trading vanilla options. One recent development that allows an investor to monetize a winning trade is the ability to take profit on a binary option.

In general, when trading a vanilla option, if the underlying market moves in the direction of the investor, there are a number of ways to exit and monetize the position with binary options trading. A simple way would be to sell the position that you own, or purchase the short position that you have borrowed. For example, is a trader purchased a Gold Call option with a strike at 1200, with an expiration period that was 1 month in the future, when the market was trading at 1200, the investor could request to sell the call option in the market. The liquidity in most liquid vanilla option is relatively robust and for the most part, there would be limited slippage on this type of sale.

Another way a trader could monetize this type of position, would be to delta hedge the underlying instrument. This has been discussed in prior articles, and can be found in the article Option Greeks. In general the investor will sell (or buy), the theoretical underlying position associated with the change in the underlying instrument. Additionally, a trader could hedge the Vega, which is another Greek to mitigate any slippage associated with the time decay related to the option (again, this is covered in the option Greek article).

In the world of binary options, especially for a weekly or monthly options (but occasionally a daily option), the market will move in favor of the investor by an amount in which the investor would like to monetize the option (take profit on the option). With most binary option brokers, the only way to handle this is to sell vanilla options to monetize the risk in the binary option market. Some brokers, such as “Stockpair” offer a way to “Take Profit” on the binary option. A “Take Profit” allows and investor who has a binary option position to sell it back to the broker for a small fee.

If an investor took a position in a binary option Gold Call when the market was at 1200 with an expiration date at the end of the week (when we are at the beginning of the week), and the underlying markets moved to 1250, the investor would need to wait until the end of the week normally to monetize the option and receive a payoff. One way to monetize would be to use standard methods, which would be to delta hedge the underlying gold risk, or to sell an option structure that was similar to the binary call option.

A structure that has a very similar is a call spread. A call spread is where a trader buys a call option with a lower strike, and simultaneously sells a call with the same expiration date with a higher call strike (or sell a lower call strike and buys a higher call strike). To hedge a binary option in the example above (gold were the trader purchased a 1200 binary call and the market moved to 1250) an investor could sell a 1200 call and simultaneously purchase a 1250 call option. This trade would lock in the premium from selling an in the money call and purchasing a at the money call. If the Gold market continued higher, the gains in the binary option would offset any losses received by selling an in the money call spread. If the gold market reversed, the premium received from selling and in the money call spread would offset the premium paid for the binary call option.

Selling a call spread when a binary call option is in the money could be as beneficial as selling the binary option back to the broker. A trader would need to compare the net premium paid (buying the binary option and the premium paid for taking profit) to the underlying payout of the binary option and determine if that net gain was better than the potential gain from selling a call option structure to monetize the binary call option. The option structure and the “Take Profit” method are also available for puts.

Instead of selling a call spread when the market moved higher, a trader would sell an in the money put spread in the market moved lower and the investor owned a binary put option.